Factors that Impact Liquidity Risk

What is Liquidity Management?

Liquidity management is a strategy that an organisation adopts to efficiently manage its cash flow and ensure that it has enough liquid assets to meet its short-term financial obligations. The word liquidity means the ability of a company to convert its assets into cash. Effective liquidity is essential for various reasons including maintaining the financial health and stability of an organization, meeting contingency needs, and maintaining the position of solvency in the organisation. Liquidity management helps companies to optimize cash flow, reduce liquidity risk, and achieve the desired outcome....

Types of Liquidity

1. Asset Liquidity: Asset liquidity means how fast an asset can be converted into cash without affecting its market price. Highly liquid assets are easy to buy or sell, while assets with low liquidity may take longer to sell. Various assets are considered liquid assets, for instance, bills receivables, short-term investments, cash and cash equivalent, etc....

Importance of Liquidity Risk Management

1. Managing Working Capital: Liquidity management helps in optimising the cash flow cycles by which companies can improve their liquidity position and enhance profitability. It plays a crucial role in maintaining the working capital of the company. Working capital represents the operational liquidity of the business and its ability to meet short-term obligations....

How to Assess Liquidity?

Liquidity means the ability of a company to convert its assets into cash. Effectively managing liquidity is crucial for maintaining the financial health and stability of an organization. There are few ratios with the help of which we can assess the liquidity of an organisation. The ratios are as follows,...

Factors that Impact Liquidity Risk

1. Market Conditions: Market conditions can impact the liquidity risk of a company. Market conditions may include changes in interest rates, credit availability, and investor sentiment. An increase in the interest rates or tight credit markets may reduce access to funding and increase the liquidity risk. Companies with high debt levels or weak credit profiles suffer more in these critical market situations....

Liquidity Management Tools and Techniques

1. Short-Term Borrowing: Short-term borrowings provide flexible funding options to cover short-term financial obligations. Companies can draw funds as needed and repay them when cash flow improves. It helps to manage their liquidity efficiently....

Conclusion

Liquidity management ensures that a company has sufficient funds or assets to meet its short-term financial needs and can pay off its current liabilities. Effective liquidity is essential for various reasons including maintaining the financial health and stability of an organization, meeting contingency needs, and maintaining the position of solvency in the organisation. By applying liquidity management tools and techniques, companies can optimize cash flow, enhance liquidity, lower liquidity risk, and maintain financial stability....

Liquidity Management – FAQs

Why is liquidity management important?...